Tuesday, May 03, 2005

Conservatives and Moral Hazard

Henry Farrell writes in response to Matt Yglesias' call for Democratic elevator pitches:
I don’t have an answer for him; I’m not that good at snappy one liners. But I do have a strong feeling that the answer lies somewhere in the left and right’s attitudes towards risk. Modern conservatives tend to fetishize risk as being a good thing in itself – see John H’s extended interrogation of David Frum’s claims that the risk of hardship and privation are character-building. There’s something similar going on in the insistence of many conservatives that the welfare state destroys character, and that Social Security, universal health care, bankruptcy protection and so on are bad things in themselves. This points towards the same conclusion as the libertarian argument that markets are good, but for different reasons – it’s less concerned with increasing individuals’ ability to make choices, than ensuring that they’re exposed to the brisk winds of chance and market forces. The left wants to provide a safety net in case you fall from the tightrope, but for people like Frum, the risk that you’ll break your neck is a good thing. It concentrates your mind wonderfully on staying up there, and makes you bulk up your moral fibre.
But what I have seen no one mention is that this conservative argument for risk (or rather, against state-sponsored alleviation of risk) is just the usual moral hazard argument taken to a much more extreme level. Since the conservative modus operandi is often to take ideas from economics and apply them to inappropriate situations (efficiency of the market mechanism, Laffer curve, etc.) this should not be surprising.

The problem is that if someone can get welfare if they are jobless then their incentive to retain a job is diminished, and if Social Security is available if they don't save enough then their incentive to save is diminished. This is almost exactly like the moral hazard problem in insurance markets: once insured, people are more willing to take actions that result in cashing in their policy. The difference is that in the insurance story you get missing and incomplete markets and in the conservative story you just get more risky behavior. So there is some legitimacy to the argument.

But I think there are a few exceptions that escape this critique...very basic poverty relief is one, and universal catastrophic injury/damage coverage is another. There is so much disutility associated with these situations that no one will want to be put in them even if they are compensated for their material losses. I suppose as you move up the ladder of insuring people against less and less undesirable states incentives are distorted more and more. The conservative critique, as usual, doesn't recognize that there is a middle ground at which the socially optimal result is achieved.

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